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ISSEN v. GSC ENTERPRISES

January 26, 1981

PHILLIP ISSEN, ON BEHALF OF HIMSELF AND ALL OTHERS SIMILARLY SITUATED, AND DERIVATIVELY ON BEHALF OF GSC ENTERPRISES, INC., PLAINTIFFS,
v.
GSC ENTERPRISES, INC., THE BANK OF LINCOLNWOOD, STEINWAY DRUG COMPANY, FORD HOPKINS COMPANY, RICHARD GOODMAN, SAMUEL BERGMAN, EGMONT SAUNDERLING, WALTER GOODMAN, ERWIN HORWITZ, MASON LOUNDY, RAYMOND EIDEN, EDWARD GORENSTEIN, MARSHALL D. LIEB AND HAIG PEDIAN, DEFENDANTS. SEYMOUR ABRAMS, INDIVIDUALLY AND ON BEHALF OF HIMSELF AND ALL OTHER PERSONS SIMILARLY SITUATED, AND DERIVATIVELY ON BEHALF OF GSC ENTERPRISES, INC. AND THE SHAREHOLDERS THEREOF, PLAINTIFFS, V. GSC ENTERPRISES, INC., A CORPORATION, THE BANK OF LINCOLNWOOD, A CORPORATION, MILLER, COOPER & COMPANY, A PARTNERSHIP, RICHARD GOODMAN, WALTER GOODMAN, SAMUEL BERGMAN, EGMONT SAUNDERLING, ERWIN HORWITZ, MASON LOUNDY, RAYMOND EIDEN, EDWARD GORENSTEIN, MARSHALL D. LIEB, HAIG PEDIAN, CLYDE WM. ENGLE, ROGER L. WESTON, SIERRA CAPITAL GROUP, A LIMITED PARTNERSHIP, THE TRUSTEES OF THE JANICE L. ENGLE CHILDREN'S TRUST, MICHAEL D. COUGHLIN, WILLIAM N. WEAVER, JR., AND RONALD K. ZUCKERMAN, DEFENDANTS.



The opinion of the court was delivered by: Aspen, District Judge:

      MEMORANDUM OPINION AND ORDER

These cases have a long and complicated history dating back almost seven years since the filing of the original complaints. Presently before the Court is the motion of certain defendants*fn1 to dismiss an amendment to plaintiff Abrams' complaint charging them with various violations of the federal securities laws in connection with a "going private" merger accomplished by GSC Enterprises, Inc., in October, 1977, on the ground that the allegations of the complaint as amended fail to state a claim upon which relief can be granted. Fed.R.Civ.P. 12(b)(6). The defendants also oppose Abrams' motions for a preliminary injunction and for class certification of the additional counts challenging the 1977 merger as well as the count seeking to challenge the merger derivatively on behalf of GSC. Since the resolution of the motion to dismiss will dispose of a large portion of this case, it will be considered first in this opinion.

BACKGROUND

The original complaints in this consolidated action were filed in 1974 by Phillip Issen (No. 74 C 0346) and Seymour Abrams (No. 74 C 2215) against GSC Enterprises, Inc. ("GSC"), a Delaware corporation, Miller, Cooper & Co., certified public accountants for GSC, and various individual directors and major stockholders of GSC and its subsidiaries: The Bank of Lincolnwood, Steinway Drug Co., and Ford Hopkins Drug Co. The plaintiffs sought declaratory, injunctive, and monetary relief individually and as representatives of a large class of GSC shareholders or, in the alternative, derivatively on behalf of GSC, for alleged violations of sections 10(b) and 14(a) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), 78n(a), and Rules 10b-5 and 14a-9 promulgated by the Securities and Exchange Commission.*fn2 The complaints also asserted various pendent state causes of action for breach of fiduciary duty. Jurisdiction was grounded in section 27 of the Securities and Exchange Act, 15 U.S.C. § 78aa, 28 U.S.C. § 1331, and upon principles of pendent jurisdiction over the state law claims. United Mine Workers v. Gibbs, 383 U.S. 715, 86 S.Ct. 1130, 16 L.Ed.2d 218 (1966). The only motion pending at present with regard to the original complaints is plaintiffs' consolidated motion for class certification, which is not addressed in this opinion.

After the original complaints were filed, the management and major shareholders of GSC changed. This new group, the "Engle group," proceeded to acquire approximately 55% of the outstanding shares of GSC through open market and private purchases and in October, 1977, caused a merger between GSC and Lincolnwood Bankcorporation, Inc. ("LBI"), also a Delaware corporation. LBI was wholly owned by the majority shareholders of GSC, who transferred their GSC shares to LBI in exchange for all of LBI's stock, and was incorporated solely for the purpose of enabling GSC to undertake a "going private" merger pursuant to sections 228 and 251 of the Delaware Corporation Code.*fn3 As a result of the merger, the Engle group became the sole owners of GSC, the surviving corporation, and the approximately 6,000 minority shareholders representing 45% of the outstanding stock of GSC were "frozen out" of GSC. Shareholders with less than 435 GSC shares were entitled to receive $1.15 per share in cash for their shares and the other minority shareholders were entitled to $500 12-year 8 1/2% capital notes of the Lincolnwood Bank, a wholly-owned subsidiary of GSC. The merger agreement was signed on October 19, 1977, and it became effective on October 24, 1977. The minority shareholders were notified within ten days of the effective date as required by Delaware law.

Following the merger, plaintiff Abrams amended his complaint, adding Counts IV through X charging the new management and controlling shareholders of GSC with violations of sections 10(b), 13(d), and 14(a) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), 78m(d), 78n(a), and various breaches of fiduciary duty under state law in connection with the merger. Abrams has not yet tendered his GSC shares pursuant to the terms of the merger and, as far as the record indicates, has not sought his appraisal remedy in the Delaware courts.*fn4 His motion for a temporary restraining order to delay the implementation of the merger was denied by Judge Flaum on November 7, 1977.

The Amendment to the Complaint

In the amendment to his complaint, Abrams charges the defendants with failing to disclose certain material facts in the merger notice and other documents sent to the shareholders immediately following the merger as required by Delaware law. Briefly summarized, Abrams' allegations of nondisclosure are as follows:

    1) The defendants failed to disclose certain
  insider agreements pursuant to which defendant Engle,
  chairman of the board and president of GSC, allegedly
  agreed to purchase (15 months after the merger) the
  GSC shares owned by the defendants Lieb, Pedian, and
  Eiden for $2.52 per share in cash and the GSC shares
  held by Eiden's children for $1.96 per share in cash
  while only paying $1.15 per share to GSC's minority
  shareholders at the time of the merger. [Amended
  Complaint, ¶ 15(a)].
    2) The defendants failed to disclose in GSC's
  financial statements the fair market value of GSC's
  one-half interest (through its wholly-owned
  subsidiary, Toulin, Inc.) in the Lincolnwood Bank
  building and adjacent land amounting to $1,045,750 or
  approximately 25 cents per GSC share. [Amended
  Complaint, ¶ 15(b), (c)].
    3) The defendants failed to disclose that there was
  no market for the 8 1/2% 12-year capital notes of the
  Lincolnwood Bank given to the minority shareholders
  in exchange for their GSC shares under the terms of
  the merger and that if the notes had to be sold at a
  discount, they were not the equivalent of cash as the
  merger notice stated. [Amended Complaint, ¶
  15(d)-(f)].
    4) The defendants failed to disclose that they had
  been discussing "going private" for at least two
  years prior to the merger and that the GSC board had
  commissioned a study in 1976 on the feasibility of
  delisting GSC's stock, which had been listed on the
  Amex, and had hired an appraiser in 1977. [Amended
  Complaint, ¶ 15(g), (j), (k)].
    5) The defendants failed to disclose that GSC could
  have paid a dividend prior to the merger, but that
  defendants deliberately chose not to do so in order
  to depress the market price of GSC stock on the date
  of the merger. [Amended Complaint, ¶ 15(h)].
    6) The defendants failed to disclose that defendant
  Engle was in default of a $500,000 payment due to
  Walter Goodman in February, 1977, in connection with
  Engle's purchase of Goodman's 800,000 GSC shares.
  [Amended Complaint, ¶ 15(l)].
    7) The defendants failed to disclose that the stock
  pledged by Engle to GSC as collateral for a $700,000
  loan (the proceeds of which were used by Engle to
  satisfy his indebtedness to Goodman who had been a
  major stockholder in GSC before the control of the
  company changed hands) had been earlier pledged to a
  Chicago bank as security for another $700,000 loan,
  so that the GSC loan to Engle was actually unsecured.
  [Amended Complaint, ¶ 15(m)].
    8) The defendants failed to disclose that Engle had
  not paid the interest when due on two previous loans
  of $600,000 and $35,000 from GSC. [Amended Complaint,
  ¶ 15(n)].
    9) The defendants failed to disclose that the GSC
  board of directors felt that GSC's purchase of
  126,200 of its own shares for $1.25 per share on the
  open market in the months preceding the merger was
  favorable to GSC even though GSC's assets were
  allegedly worth less at the time of these open market
  purchases than at the time of the merger. [Amended
  Complaint, ¶ 15(o)].
    10) The defendants failed to disclose their
  conflict of interest in determining the price to be
  paid for the minority shares since the value of their
  GSC stock would be reduced by the amount paid to the
  minority for their shares. [Amended Complaint, ¶
  15(p)].
    11) The defendants failed to disclose the existence
  of a conspiracy, scheme, and device to defraud the
  minority shareholders and enable the Engle group to
  gain or perpetuate its control over GSC and force out
  minority shareholders by:
    a) causing GSC to make open market purchases of
    126,200 shares of GSC stock from minority
    shareholders in order to increase the stock
    percentage owned by the Engle group;
    b) causing GSC to borrow $600,000 for the sole
    purpose of loaning it to Engle to enable him to
    satisfy his indebtedness to Walter Goodman under a
    contract by which Engle purchased Goodman's GSC
    stock;
    c) causing GSC to omit the payment of dividends
    that could have been paid in order to suppress ...

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